Summary of this article
Rural agricultural land can be tax-free.
Section 54F can offer residential reinvestment relief.
Section 54B covers reinvestment in agricultural land.
Selling inherited land that is of an agricultural nature does not mean that the entire sale proceeds are subject to capital gains tax. The tax treatment depends largely on whether the piece of land qualifies as rural agricultural land, how it was used, and how the proceeds are invested ahead. For families who inherit this type of land, it becomes important because the tax liability can vary significantly; this depends on the location and the nature of the property.
When is the sale of agricultural land tax-free?
The first question is whether the inherited land qualifies as rural agricultural land under the Income-tax Act. Rural agricultural land is generally excluded from the definition of a capital asset. Hence, the sale does not attract capital gains tax. However, agricultural land which is located within a specified municipality and its limits can be treated as a capital asset. This depends on factors such as the population of the municipality. In such cases, capital gains arise on the sale.
“The sale of agricultural land that is inherited should be done with great caution since the tax is determined based on the nature of the land and its location. Agricultural land, as described in the income-tax provisions, is not liable to capital gains tax, but agricultural land that falls in certain urban areas is liable for capital gains tax upon sale,” says Ravikant, Co-founder, Elegance Infra and Enterprises.
What happens when inherited agricultural land is taxable?
If the inherited land is a taxable asset, the heirs may have the option to reduce or eliminate their capital gains liability through specified reinvestments. One important provision under this is Section 54F. If the inherited land qualifies as a long-term capital asset, the capital gains might be eligible for exemption when the money is reinvested in a residential house, subject to the conditions of the section. The residential property must be purchased within one year before or two years after the sale. If the property is under construction, it should be within three years. This can be useful, especially when heirs want to convert the inherited land wealth into a residential property.
Section 54B
Another provision is Section 54B. This is specifically created for capital gains that arise from the transfer of agricultural land. If the inherited land was being used for agricultural purposes by the previous owners, an individual or HUF may claim this exemption by purchasing another agricultural land within two years of the sale. The exemption here is limited to the lower of the capital gain or the amount that is invested in the new agricultural land. The newly purchased land also has to satisfy the prescribed conditions for holding. In the case of multiple heirs, they do not necessarily have to pool their proceeds and make one investment together. Each heir can make the investment separately.
“In the case of inherited agricultural land, the period of possession and acquisition price of the previous owner of the land may become relevant in determining the capital gains. It should be noted that the reduction of the tax burden is possible through certain exemptions that arise in the cases of reinvesting sale proceeds into other objects. Under Section 54F, there may be an exemption in the case of the sale of agricultural land and investment in a residential house, and Section 54B can be used if the proceeds were reinvested into agricultural land,” adds Ravikant.
For properties that are inherited, the previous owner’s period of holding generally depends on whether the asset is held long-term. The cost of acquisition is also determined under the said rules applicable to inherited assets.
“Thus, individuals who sell family inheritance land should determine the classification of such land and compute capital gains on such sales and consider exemptions in order to avoid tax pitfalls,” advises Ravikant. Before selling any inherited land, heirs should first establish whether it is rural or urban agricultural land, as well as determine the individual ownership shares and calculate the capital gain.
